Department store chain Dillard’s (NYSE:DDS) reported Q2 FY2023 results topping analysts' expectations, with revenue down 1.27% year on year to $1.6 billion. Dillard's made a GAAP profit of $131.5 million, down from its profit of $163.4 million in the same quarter last year.
Dillard's (DDS) Q2 FY2023 Highlights:
- Revenue: $1.6 billion vs analyst estimates of $1.54 billion (3.93% beat)
- EPS: $7.98 vs analyst estimates of $3.70 (116% beat)
- Free Cash Flow of $85.5 million is up from -$120 million in the same quarter last year
- Gross Margin (GAAP): 40%, down from 41.8% in the same quarter last year
- Same-Store Sales were down 3% year on year
- Store Locations: 274 at quarter end, increasing by 24 over the last 12 months
With stores located largely in the Southern and Western US, Dillard’s (NYSE:DDS) is a department store chain that sells clothing, cosmetics, accessories, and home goods.
As the name suggests, a department store offers a wide variety of merchandise organized into different departments or sections. Before the introduction of department stores in the 19th century, consumers would have to visit three different stores to buy an evening dress, a bottle of perfume, and a picture frame.
Today, the Dillard’s customer is a middle to upper-income woman over 35 years old who is looking for high-quality products in a variety of categories. While other department stores may offer products from affordable to luxury, Dillard’s products tend to be in the middle of the price spectrum, with a focus on quality over trendiness. Brands such as Ralph Lauren, Coach, and Lancome can be found in stores or on its e-commerce site.
Stores vary in size but are roughly 150,000 square feet. They are typically located in suburban malls and shopping centers. Common departments in a store include women’s/men’s/children’s apparel, beauty/cosmetics, and home goods. Additionally, Dillard's has an active e-commerce presence, which was launched in 1998 and made Dillard’s a fairly early adopter in the department store category at the time.
Department stores emerged in the 19th century to provide customers with a wide variety of merchandise under one roof, offering a convenient and luxurious shopping experience. They played an important role in the history of American retail and urbanization, and prior to department stores, retailers tended to sell narrow specialty and niche items. But what was once new is now old, and department stores are somewhat considered a relic of the past. They are being attacked from multiple angles–stagnant foot traffic at malls where they’ve served as anchors; more nimble off-price and fast-fashion retailers; and e-commerce-first competitors not burdened by large physical footprints.
Department store competitors include Macy’s (NYSE:M), Kohl’s (NYSE:KSS), and Nordstrom (NYSE:JWN).Sales Growth
Dillard's is larger than most consumer retail companies and benefits from economies of scale, giving it an edge over its competitors.
As you can see below, the company's annualized revenue growth rate of 1.8% over the last four years (we compare to 2019 to normalize for COVID-19 impacts) was weak as its store footprint has remained relatively unchanged, implying that growth was driven by more sales at existing, established stores.
This quarter, Dillard's revenue fell 1.27% year on year to $1.6 billion but beat Wall Street's estimates by 3.93%. Looking ahead, Wall Street expects revenue to decline 5.76% over the next 12 months.
Number of Stores
When a retailer like Dillard's keeps its store footprint steady, it usually means that demand is stable and it's focused on improving its operational efficiency to increase profitability. Since last year, Dillard's store count increased by 24 locations, or 9.6%, to 274 total retail locations in the most recently reported quarter.
Taking a step back, the company has kept its physical footprint more or less flat over the last two years while other consumer retail businesses have opted for growth. A flat store base means that revenue growth must come from increased e-commerce sales or higher foot traffic and sales per customer at existing stores.
Same-Store Sales
Dillard's demand has outpaced the broader consumer retail sector over the last eight quarters. On average, the company has grown its same-store sales by a robust 15.5% year on year. Given its flat store count over the same period, this performance could stem from increased foot traffic at existing stores or higher e-commerce sales as the company shifts demand from in-store to online. Nevertheless, Dillard's is likely optimizing its operations for improved efficiency and profitability before expanding its physical footprint.
In the latest quarter, Dillard's same-store sales fell 3% year on year. This decline was a reversal from the 10% year-on-year increase it had posted 12 months ago. A one quarter hiccup isn't material for the long-term prospects of a business, but we'll keep a close eye on the company.
Gross Margin & Pricing Power
As you can see below, Dillard's has averaged an impressive 43.5% gross margin over the last eight quarters. This means that the company makes $0.43 cents for every $1 in revenue before accounting for its operating expenses. 
Dillard's gross profit margin came in at 40% this quarter, marking a 1.8 percentage point decrease from 41.8% in the same quarter last year. One quarter of margin contraction shouldn't worry investors as retailers' gross margins often change due to factors such as product discounting and dynamic input costs (think distribution and freight expenses to move goods).
Operating Margin
Operating margin is a key profitability metric for retailers because it accounts for all expenses that keep the lights on, including wages, rent, advertising, and other administrative costs.
From an operational perspective, Dillard's has been a well-managed company over the last two years. It's demonstrated elite profitability for a consumer retail business, boasting an average operating margin of 16.7%. However, Dillard's margin has slightly declined by 1.8 percentage points year on year (on average). This shows that despite its success, the company has faced some small speed bumps along the way. EPS
Earnings growth is a critical metric to track, but for long-term shareholders, earnings per share (EPS) is more telling because it accounts for dilution and share repurchases.
In Q2, Dillard's reported EPS at $7.98, down from $9.30 in the same quarter a year ago. This print beat Wall Street's estimates with ease and shareholders should be delighted with the results.
Between 2020 and 2023, Dillard's adjusted diluted EPS flipped from negative to positive. These results show that the company is headed in the right direction as profitability is vital for success in the challenged consumer retail sector.
Cash Is King
If you've followed StockStory for a while, you know that we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can't use accounting profits to pay the bills.
Dillard's free cash flow came in at $85.5 million in Q2, representing a 5.35% margin and flipping from cash flow negative in the same quarter last year to cash flow positive. This was an awesome development for the business.
Over the last eight quarters, Dillard's has shown terrific cash profitability, enabling it to stay ahead of the competition by investing organically, acquiring other businesses, paying down debt, or returning capital to shareholders via share buybacks or dividends while maintaining a robust cash balance. The company's free cash flow margin has been among the best in consumer retail, averaging 13% during the same time. Furthermore, its margin has been flat, showing that the company's cash flows are relatively stable.
Return on Invested Capital (ROIC)
Dillard's has a strong competitive position and its management team has a stellar track record of successfully investing in profitable growth initiatives. Its five-year average return on invested capital (ROIC) is 32.2%, firmly placing it among the best consumer retail companies.
We like to track ROIC because it tells us about a company’s prospects for profitable growth and its management team's ability to achieve it through capital allocation decisions such as organic investments, acquisitions, and share buybacks. ROIC can also be used as a tool to benchmark a company's performance versus its peers, and just like how we focus on long-term investment returns, we care more about analyzing a company's long-term ROIC because short-term market volatility can distort results.
Key Takeaways from Dillard's Q2 Results
Sporting a market capitalization of $5.54 billion, Dillard's is among smaller companies, but its more than $924.5 million in cash on hand and positive free cash flow over the last 12 months puts it in an attractive position to invest in growth.
We liked seeing the company beat on revenue, gross margin, and EPS. The company's continued share repurchases should also please shareholders. On the other hand, same-store sales missed (although again, revenue beat) and the company called out a "cautious consumer" in the press release. The stock is up 3.23% after reporting and currently trades at $347.03 per share.
Is Now The Time?
When considering an investment in Dillard's, investors should take into account its valuation and business qualities as well as what happened in the latest quarter. Although we've other favorites, we understand the arguments that Dillard's isn't a bad business. However, its revenue growth has been uninspiring over the last three years, and analysts expect growth rates to deteriorate from there. But while its low growth in new store openings shows that it's focused on existing stores, the good news is its powerful free cash flow generation enables it to stay ahead of the competition through consistent reinvestment of profits.
We don't really see a big opportunity in the stock at the moment, but in the end, beauty is in the eye of the beholder. If you like Dillard's, it seems that it's trading at a reasonable price point.
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